How a Pay-for-Performance Compensation Strategy Pays Off

Next to an organization’s strategic planning efforts, dovetailing the compensation philosophy to support the organization’s goals is paramount to success. For example, if quality, experience and a sophisticated skill set are an organization’s strategic advantages, then it will not be successful hiring employees significantly below the market rate for that position.

• • Lag the market. An organization may choose to offer a compensation package that is valued less than packages offered for a similar job in the labor market. An employer with a “lag the market” philosophy is likely to be at the back of the line when it comes to hiring and retaining employees, especially those with special skills. These problems are the direct result of below-market pay. With the Internet providing pay information with a click of a mouse, employees are less willing to stay and support an organization when they know they are underpaid. Good employees may leave, while less-skilled employees may stay with the organization.
  
  Turnover is very expensive. It is estimated to be at least six months’ pay for a non-exempt (hourly) employee and one years’ pay for an exempt (salaried) employee. No organization wants to be a training ground to groom employees for its competitors.

  • Meet the market. This is the most common compensation strategy. This level of competitiveness occurs when an organization’s compensation strategy is equal to the labor market for the same position. This is the pay philosophy that makes the most sense for most organizations. By having a base pay strategy that meets the market, an employer can easily add or subtract variable pay and/or fringe benefits. By selecting this level, employers can balance cost pressures and the need to attract and retain employees.

  • Lead the market. The “lead the market” pay strategy can be defined as a total compensation package that is above the labor market for a similar position. This strategy may occur because an organization believes that by paying more, it will receive more experienced employees for the same position (although it has not been proven that a higher salary guarantees higher-quality employees)
  
  Organizations may choose to lead the market in good financial times, but it can leave them in a tight spot in a downturn.

• An organization that is several miles outside a major city may be able to pay lower for their lower-level hourly employees to match a lower cost of living, but may have to pay at market or above market to attract employees to a smaller, more remote city.

• An organization has a mix of difficult-to-fill clinical positions and easier-to-fill administrative positions. To compete in a market with an extreme shortage, it may make business sense to pay the clinical positions at least at market or above market and pay the administrative positions closer to below market.

• Is the organization able to attract the appropriate skill sets and types of employees when needed?

• Where is the organization hiring its best employees?

• How long do most employees stay at the organization?

• Where do employees go when they leave the organization?

• What are the organization’s promotion policies?

• Are employees frequently asked to take on new tasks without being rewarded for their efforts?

• Do employees value the company’s benefits, incentives, work environment? What of these items should be changed or updated?

• What is the employee morale? This information can be gathered from managers, exit interviews, employee surveys and other communication tools. Employee survey feedback, in particular, provides valuable information for moving forward.

• What mix of base pay, incentive pay, work environment and benefit levels make the most sense for the organization when considering the competition, types of jobs, niche and labor market available?

• Is there a pay matrix that rewards high-performing employees with a larger annual merit increase?

• How well does the organization’s performance appraisal process work?

• Are the organization’s promotional pay policies consistent?

• Does the organization review where employees fall on the pay range according to experience, performance and longevity?

• Number of grades.

• Separate scales for different types of jobs such as non-exempt, exempt and executive.

• Size of jump between grade mid-points.

• Placing a newly created job in the pay range.

• Determining how and when a job gets reviewed due to changes in responsibilities.

• 1. Ability to pay. Fancy compensation programs are impressive, but the bottom line is that an organization must be able to afford its pay system. This is true in good and in bad financial times. It is critical that design decisions align with the organization’s financial ability to pay. By partnering with an organization’s chief financial offer, it will be easier to develop a plan that makes sense financially.
  

  2. Legal constraints. In general, base pay plans are regulated by the Fair Labor Standards Act (FLSA), which regulates wages, hours and recordkeeping.
  

  3. Union/non-union issues. For unionized organizations, pay issues are a mandatory bargaining issue that must be negotiated. Organizations must obtain buy in from union leadership early in the negotiation process to be successful in changing the way they pay their employees.
  

  4. Internal labor market. This is where internal equity comes into play. Pay plans must motivate employees to want to stay with the organization and, hopefully, take on management roles or higher-level technical roles in the future. To illustrate, an organization can structure a pay plan that will motivate high-level technical employees to move out of overtime-eligible positions into first-line management positions that do not pay overtime.
  

  5. External labor market. In today’s global market, organizations cannot operate their pay plan in a vacuum. Basic economics of supply and demand affect employee compensation. To illustrate, the amount of education required to become a pharmacist recently changed. To compound the problem, Medicare added a pharmacy plan for senior citizens. This resulted in a shortage in pharmacists and an increase in pay levels for the job.